Russia's Confidence Discount

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Of all the countries making up the BRIC powerhouse, Russia is undoubtedly the most bi-polar. Very much like a bad relationship with a significant other, Russia is there for investors in the good times, but falls horribly off the radar in the bad times. During this decline and global recession, Russia has been nowhere to be seen.

When circumstances are pleasant or profitable, Russia's presence is felt. But was nowhere to be seen, during this decline and global recession.

The Confidence Discount

Russia has been, for a long time, a bit of a sore spot among the emerging markets. The country’s reliance on commodities has been hot and cold based on moving economic trends, and many investors still worry that political disruption or involvement in business may negatively affect their holdings. Even to this day, Russia remains one of the biggest investors in itself, with the government holding substantial stakes in oil and gas producers, as well as various other behemoths that dominate the Russian commodity trade.

To many, the Russian discount is not immediately visible. Russian stocks have advanced in 2010 on improving commodity prices and a minute rebound in demand from the developed world, but the best indication that investors are discounting Russian stocks comes from the limited upside in price to earnings multiples. Ratios have plummeted this year as earnings increase at nearly three times the pace of the price to earnings multiple, and Russia remains the least expensive of all BRIC nations.

It isn’t as if Russian stocks are upping their dividends. They aren’t, and the yields in much more stable commodity-based economies, including Canada, are far more appealing to investors still stiff with their investment dollars.

BRIC’s Black Sheep

Unlike Brazil, India and China, Russia lacks a very important piece of the economic puzzle: a strong internal demand for consumption products. In the latest fiscal year, oil and gas exports helped boost GDP by as many as four points over last year, but both investment and consumption stagnated.

With four percent year over year growth forecast for as far as the eye can see, Russian companies simply don’t have the appeal of Brazil, India or China. Plus, as each of the three other nations become more economically free, the Russian government merely toys with the thought, offering up only small sales of government owned companies to shore up a current budget deficit. Compared to a near 180 shift in Chinese policy within the last two decades, Russia’s move to economic freedom is hardly a blip on the radar.

In fact, as the government sector as a percentage of GDP declines in both India and China, and stabilizes in Brazil, government continues to grow in Russia. This growth of government, however, is not a matter of stimulus as it was in India and China in 2009, but instead due to the shrinking size of the private economy.

Prominent investors have declared Russia a long-term value play with forward price to earnings ratios leveling off at a reading of seven. However, without large institutional changes regarding the role of the government in the marketplace, or increases in dividend yields, investors are far more likely to head to Brazil, India or China, slapping a ceiling on any future multiple expansion and share price gains in Russia.